CROUCHING DRAGON: UNCTAD REPORT WEIGHS UP OPPORTUNITIES AND DIFFICULTIES FACING CHINA IN WORLD TRADING SYSTEM

TAD/INF/PR/4328 April 2002

Liberalization, expanded trade and increased FDI flows are among the expected outcomes for China from its accession to the WTO, predicts UNCTAD in its Trade and Development Report 2002(1), released today. But despite China’s successful export expansion in manufacturing, the country is not immune to the kind of difficulties experienced by countries that shifted rapidly from import substitution to outward orientation, and the Report finds that “difficulties are likely to occur mainly in sectors dominated by State-owned enterprises and in agriculture”.

China’s trade in both goods and services has been growing at more than twice the world average for over a decade and Chinese exports now account for over 4% of the world total, with a heavy emphasis on labour-intensive manufactures. Concerns have been raised, in both developed and developing countries, that low wages give China a big competitive advantage in international trade, and China’s recent accession to the WTO has only heightened those concerns. But according to the Report, once productivity differences are accounted for, China’s advantage is less clear (table 1); UNCTAD’s own analysis suggests that China should remain a strong competitor in some traditional labour-intensive goods (such as clothing and footwear) and in assembly operations in high-technology sectors. The Report concludes that the second-tier East Asian newly industrializing economies (NIEs) and other middle-income emerging markets such as Mexico are likely to face the stiffest competition from Chinese exporters.

But China’s opening up also means new trading opportunities for other countries across a broad range, from resource-based products to those with a high technology intensity; indeed, import surges are most likely in middle-range products, such as textiles, electrical and non-electrical machinery and motor vehicles. The Report argues that the big gains are likely to flow to advanced industrial countries and the first-tier Asian NIEs. However, some economies in Africa and Latin America can also expect to benefit from increased primary exports.

The Report worries that too rapid a liberalization could be particularly problematic for State-owned enterprises. At the end of the 1990s, these employed 83 million people (12% of total employment) and generated 38% of national income and 50% of exports. However, the Report notes that these enterprises “are characterized by excessive employment, high inventory levels, low productivity, low capacity utilization, inefficient scales of production and outdated technology”. A big shock to such sectors as textiles and automobiles, unless properly managed, could result in significant job losses, which could be difficult to compensate with expansion elsewhere (table 2).

Foreign direct investment (FDI) is expected to play an important role in the transition by boosting exports; unlike other developing regions, China boasted an increase in FDI last year, with much of this linked to international production networks. The share of foreign firms in total Chinese exports reached 48% in 2000, up from only 2% in 1986. However, the Report cautions against expecting too much from TNCs; much of their activity is heavily import-dependent, accounting for half the value of their exports, and with profit remittances ($20 billion) well in excess of their export surplus ($2 billion), reinvested profits (estimated at $12 billion) are still not sufficient to make foreign firms a positive contributor to China’s current account. In any event, these firms are unlikely to fill the employment gap created by any import surge; to do so, the Report estimates, exports would have to reach over 40% of GDP by 2005, but this would imply a significant relocation of industrial activity from elsewhere in the developing world and flooded markets in such products as clothing and some electronics goods, where the danger of a “fallacy of composition” – the mistaken assumption that what is true for the individual is also true for the group – is already high.

The Report argues that China´s desire to move forward on both the industrialization and integration fronts will require a full range of policies to encourage an important part of its skilled labour force to shift into new manufacturing activities and bring a rapid and well-sequenced technological upgrading, including the replacement of imported parts and components with domestically produced ones. Policies will also be needed to help create many more new jobs in domestic sectors, including services. Over time, upgrading of skills will be essential for sustaining rapid industrialization. The Report concludes that China has the necessary initial conditions to embark on this strategy and sees some evidence of moves in this direction.

While reshaping its development strategy, the immediate challenge for China is to ensure a smooth adjustment to new conditions. In this respect, the Report argues that it is important that China retain autonomy to manage its exchange rate, if need be, to prevent disruptions in certain sectors of its economy. A judicious combination of currency adjustments and domestic taxes might help to absorb the shocks to vulnerable industries without causing distortions in resource allocations or violating the commitments that the country has made in its accession to the WTO.